Here's What the Insiders Are Buying

It seems that the fiscal cliff has been avoided, and maybe now we can move past the Washington foolishness for a while and concentrate on finding good stocks to buy and overvalued darlings to sell.

Wall Street seems to like the temporary removal of political hijinks and is rallying rather impressively this morning. While I confess that a steep selloff would have been more to my liking, as there is a need for fresh inventory of safe and cheap stocks, I will take the rally, as it is lifting many of my cheapies.

Over the course of the holiday, in addition to watching a lot of bad football, I took the time to finish observing the results of insider trading for 2012. One of my favorite insider-buying signals to track is large open-market buying by the top two executives of a corporation. Last year, 365 stocks met this insider buying test, and 78% of these stocks went higher during the year. The average winning stock was up 45.6%, and the average loser declined by just 12.4%. In total, the average return of all these stocks was 33.08%. This screen once again handily outperformed the overall market and continues to prove itself as a valuable indicator for stock selection.

I took a quick look this morning to see which stocks passed the top-two insider test for the last month of 2012. The list includes some pretty interesting names, a few of which are also relatively cheap on valuation and worth considering for long-term, patient investors.

Hersha Hospitality Trust (HT) has been on my radar screen before, as I am fond of the smaller hotel REITs. The company owns 64 hotels in what it considers to be gateway markets, with a total of 9,221 rooms. The company just raised its outlook for 2013 and announced a $75 million share buyback. The CFO of the company has been buying shares in the open market and apparently likes the direction that his business and hopefully share price are heading in 2013.

The insider passion for mortgage REITs does not appear to have abated in the last month of the year. The CEO of American Capital Agency (AGNC) increased his stake in the firm, as did at least one other member of the board of directors. The shares trade at a slight discount to net asset value and yield more than 17% at today's price. There is a lot of negative sentiment on mortgage REITs right now, but insiders have been consistent buyers as the shares have declined. American Capital Agency has been one of the steadiest performers in the group over the past several years, and the executive running the show believes the stock price go higher.

Insiders at the defense contractor Kratos Defense and Security Solutions (KTOS) have been steady open-market buyers of their stock recently. The CEO and CFO both bought shares as 2012 came to a close. Concerns about spending cuts have weighed on the entire sector, but Kratos makes systems for unmanned surveillance planes and missile systems that are unlikely to be cut. The company is generating free cash flow and paying down debt. It has been winning contracts, it showed strong sales growth in 2012, and the people in charge seem to feel that this progress will continue.

Coal is one of my best ideas for 2013, and the CEO of Hallador Energy (HNRG) appears to agree. His company supplies steam coal to the electric utility industry and has oil and gas interests as well. Hallador had record sales and earnings in 2012, even as the coal market weakened in the face of new regulations and low natural gas prices. The company has 85% of its output for 2013 under contract, and the insiders seem to feel that the stock price can go much higher as the market for coal improves.

As with any screen, insider buying by the top two executives is a starting point for the research process. It has proven to be a powerful indicator and often serves as a catalyst for undervalued stocks to improve, so it is worth the time to do the homework. These three stocks all seem worth deeper investigation as we enter the new year and could eventually provide returns of multiples and not mere percentages for patient investors.

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At the time of publication, Melvin had no positions in stocks mentioned.

Please note that due to factors including low market capitalization and/or insufficient public float, we consider KTOS and HNRG to be small-cap stocks. You should be aware that such stocks are subject to more risk than stocks of larger companies, including greater volatility, lower liquidity and less publicly available information, and that postings such as this one can have an effect on their stock prices.